Advertising as Quality Signal: In the text, we have discussed two possible motiv

Advertising as Quality Signal: In the text, we have discussed two possible motives for advertising, one focused on providing information (about the availability of goods or the prices of goods) and another focused on shaping the image of the product. Another possible motive might be for high quality firms to signal that they produce high quality goods to consumers who cannot tell the difference prior to consuming a good. Consider the following game that captures this: In each of two periods, firms get to set a price and consumers get to decide whether or not to buy the good. In the first period, consumers do not know if a firm is producing high or low quality goods—all they observe is the prices set by firms and whether or not firms have advertised. But if a consumer buys from a firm in the first period, she experiences the quality of the firm’s product and thus knows whether the firm is a high or low quality firm when she makes a decision of whether to buy from this firm in the second period. Assume throughout that a consumer who does not buy from a firm in the first period exits the game and does not proceed to the second period. A: Notice that firms and consumers play a sequential game in each period, with firms offering a price first and consumers then choosing whether or not to buy. But in the first period, firms also have the option to advertise in an attempt to persuade consumers of the product’s value. (a) Consider the second period first. Given that the only way

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